.png)
South Korea’s economy has relied on giant corporations for over half a century. A recent research looks into whether they do more harm than good. Konstantin Egorov, a professor at the University of Antwerp and a graduate of the New Economic School, explains why its findings may matter far beyond Korea.
A high level of concentration is one of the defining features of the Russian economy. Giant corporations, often state-owned, dominate many sectors, and these so-called «national champions» are frequently at the center of economic policy. This applies not only to traditional industries like oil, natural gas, and other commodities, but also to finance and even the most recent tech industries. This is also common to other countries.
Such dominance can be a result of remarkable success. Finland’s Nokia once ruled the global market, and Taiwan’s TSMC does so today. But it can also stem from grave injustice. Perhaps the most striking example is the era of the robber barons in the United States at the turn of the 19th–20th centuries. Back then, a handful of industrialists and big businessmen (some of their names became common, like Rockefeller) eliminated most of their competitors, enjoyed monopolistic positions, extracted huge profits, controlled the government, and effectively imposed their policy.
Of course, every such giant would argue that it is highly efficient, like Nokia, and that it did not cheat to eliminate rivals, unlike Rockefeller’s Standard Oil, which at its peak controlled over 90 % of the US market. The state is usually inclined to support the monopolist, because it has probably shared its superprofits with them.
So how can you understand what is really going on?
One may think that you just need to look at profits: a monopoly should earn far more than a fair competitor. But such an approach is rarely practical: firms have different cost structures. For example, developing a new drug requires huge upfront investment, while subsequent production may cost very little. To recoup that investment, the company often needs to charge a very high price for years. Only after several decades, by transparently adding up all revenues and expenses, can one tell whether it earned a reasonable competitive return or made a fortune as a monopolist.
Therefore, instead of directly comparing profits, economists often look at indirect signs of non-market behavior. One of them is simple: any monopolist profits from inflated prices, which always results in a lower quantity of goods and services produced. After all, that’s how you maximize profits while minimizing costs. From the outside, the monopolist’s return on capital or labor can look disproportionately large. Meanwhile, the monopolist itself will appear abnormally small: its returns on all production factors are much higher than its competitors’, yet for some reason it does not expand as much as it could under those conditions.
There is also the opposite — and unfortunately, quite common — type of non-market behavior. Some giant firms have much lower returns on production factors than their competitors. If all firms have the same access to labor and capital markets (i.e., they pay the same wages and interest rates), then such firms are essentially losing money, earning less than others. In other words, they look too big because by reducing production, they could raise prices and increase returns on labor and capital.
This is often attributed to the public sector, where hiring more employees can seem important regardless of the usefulness of these people. Nepotism and bringing relatives into the company are another example of this, and getting a «preferential» loan from good friends is a classic example of inflating capital rather than labor.
Economists have recognized such common signs of non-market behavior since the 19th century. But in 2009, two researchers made a breakthrough by using this idea to assess the overall efficiency of an entire economy.
From an economist’s perspective, all the above examples are distortions of the market mechanism that lead to inefficiency. A firm that looks too small from the outside could be either a predatory monopolist or a suppressed competitor that is not allowed to grow. In either case, it remains too small, meaning the entire economy loses because of not allocating resources to the company’s production capacity. In other words, resources are not being put to their best use. Young, promising firms are denied loans so they don’t challenge market leaders, and someone’s relative enjoys a sinecure instead of contributing productively, even in a much more modest role.
The breakthrough of the research was that economists could estimate the overall GDP gain from a more efficient allocation of available resources without needing to identify the specific causes of each distortion. The thought experiment was to transfer labor and capital from low-return firms to high-return ones (while accounting for diminishing returns as more of a factor is used in one firm).
The authors tested their approach using factory data from India, China, and the United States. No country is perfect, and even the US had many distortions between different plants, but still far fewer than India or China. This fact alone did not surprise anyone. But the key finding was that inefficient resource allocation between plants could explain about half of the difference in overall industrial productivity among the three countries. In other words, to cut the technological gap with the United States in half, developing countries did not need to introduce democracy or other institutions, import new equipment, or upgrade worker skills. They didn’t even need to fully eradicate corruption. It would have been enough to reduce it to the American level which, by this measure, is far from ideal.
Since then, many similar studies have measured distortions caused by firms that are too big or too small. This has been done for the Russian Empire, the Soviet Union, and modern Russia. For example, a research on sanctions imposed after 2014 showed that Western restrictions targeted precisely those companies that were too big in the Russian economy. Sanctions generally made it very difficult for them to access foreign financing, which, all else being equal, would have reduced their size.
But all else came out far from equal. After 2014, the targeted corporations actually grew larger relative to other Russian companies. If that growth was a result of the Russian government’s response to sanctions (and not other factors), then on one hand, the sanctions failed, because their targets ended up better off, not worse.
On the other hand, the sanctions achieved some success, leading already too big firms to become even bigger. That meant even more of the country’s available financing went to them instead of firms where returns would have been much higher. Thus, sanctions may have significantly reduced Russian GDP — not directly by cutting foreign financing, but indirectly by creating a less efficient distribution of financing within the country.
Research on South Korean growth since the 1970s goes much further. It distinguishes the different growth mechanisms of Korean corporate giants, the chaebols. For instance, no one would call Samsung a highly inefficient company, as it constantly proves its competitiveness in global markets where it gets no special favors. Nevertheless, that doesn’t rule out the possibility that Samsung abuses its position. Its revenue sometimes exceeds 20 % of Korea’s GDP. Although the prices of most of its products are determined by global competition, it could easily underpay for local inputs, including the labor of highly skilled engineers, not to mention its capacity to seek government privileges. While Samsung is certainly a prominent company in Korea, it is hardly unique. Since as early as the 1970s, the Korean government has put the stake on the largest corporations, and their share of the economy has only grown since.
To assess the contribution of such giant corporations to Korean GDP, the research authors developed a model showing how international trade significantly increases the size of only a few of the most successful firms, thereby giving them the capacity to manipulate prices in the domestic market. Specifically, they assume that each firm abuses its position to the extent its market share allows. They then measure the remaining differences in returns on capital and labor between firms, revealing the extent of distortions beyond those directly caused by market power. This includes, for example, additional government benefits or, conversely, a heavier tax burden.
The researchers conducted a thought experiment in which since the 1970s, the three largest firms in each Korean industry had developed in exactly the same way as other firms in the same sector. Roughly speaking, in this scenario, Samsung’s growth in productivity, export opportunities, and distortions is replaced by the growth of an average firm in the same industry. According to the authors’ estimates, under such a scenario, Korea’s real per capita GDP would be 21 % lower than the actual one. In other words, the outstanding development of champion companies has provided about one-fifth of today’s Korean wealth. And Samsung’s contribution alone turned out to be 7 %!
Compared to hypothetical economies with no distortions and no abuse of market power, the study found that Korean giants would be far below their efficient size from the 1970s to the mid-1990s. This implicitly points to significant monopolization, among other distortions. However, during the 2000s, this difference became quite insignificant: some industry leaders were too big, others too small, but together they ended up about the «right» size.
This image of the largest corporations as industry leaders rather than monopolists that crush even potential competitors is supported by other facts. Today’s champions are noticeably different from those of 1972. Throughout the 1970s, the productivity of the original leaders grew more slowly than that of their competitors. As a result, they lost the lead to other, more dynamic firms. But since the 1980s, the group of champions has been relatively stable.
Of course, this research does not reveal what seems to be the main secret of Korea’s economic success: how the country managed to avoid slipping into corrupt support for its current leaders at any cost. Perhaps competition from top global corporations prevented South Korean giants from sacrificing efficiency for nepotism. It could also be that oversight from a fairly democratic society held them back. Or maybe it was just a coincidence of many different factors. Either way, not every giant — even one that actively abuses its position — turns out to be a villain.
The author’s opinion may not coincide with that of the editorial board.
